BOJ: Geopolitical risk “trumps” all (for now)


I would hate to be one of the traders forced to make prices June 23-24.”

  • A New York FX market-watcher

– Geopolitical risk seems to be the over-arching theme this week; with market uncertainty (as we can see in stock weakness) over the UK referendum looming, neither the BOJ nor the Fed wished to take too hawkish a tone.
– Add to this soft underlying inflation expectations (hence the weaker CPI outlook), that the BOJ mentioned in its statement.
– Even though the Fed is not expecting a massive deterioration in US inflation expectations, as the Fed lowered projections for rate hikes, the tendency is for dollar softness against the yen, which is poor for sentiment in Japan, particularly for equity sentiment.
– Although it makes headlines that Kuroda is letting the yen appreciate, he probably has little choice given the EU referendum is still ahead (risk aversion trigger), and the Fed lowered hike guidance; moreover intervention is the MOF’s bailiwick.
– The BOJ may still ease policy, but it is unlikely to gain much by doing so in an environment where external geopolitical events are driving markets and expectations.
– Note again the influence of the UK referendum on UK stocks, which is one manifestation of external risks driving markets.
– For now, the press is reporting that central banks are mulling dollar supply via bilateral swap lines in the case of a liquidity squeeze upon a “no” vote.  The prospect of a liquidity squeeze is negative for USDJPY, given the yen gets hoarded in liquidity squeeze situations.
– Longer-term (which today means after the referendum), it is possible that stocks will recover and the yen will weaken again in the case of a “no” vote, after which fundamentals may return to drive central bank rhetoric and actions to a greater degree.  Nonetheless, geopolitical risk does not disappear, nor do global linkages (note the strong pull of Chinese data and market moves of late, or the uncertainty surrounding US elections in November), so fundamentals may have to strengthen much more before the BOJ takes further easing off the table.

Watch Naomi Fink on Bloomberg